Coronavirus optimism vs. economic gravity

Welcome to the Back from the Crash newsletter where we discuss how to manage the current stock market crash and how to position ourselves to maximize the rebound and next bull market. If you’re new, you can learn more about this newsletter by reading this.

Previous edition: Netflix vs. Disney in the post-coronavirus world


Coronavirus headlines seem to be improving. The number of new cases and hospitalizations in places like New York are encouraging in recent days. This doesn’t mean the crisis is over. Far from it. But, it’s the first step. The first step towards beating this virus is slowing the exponential spread. The shelter-at-home and social distancing measures are starting to impact the data coming in (especially in places like New York), and that’s a wonderful thing.

The stock market has been rallying on some of this positive news, which obviously makes sense. The sooner the virus goes away, the sooner we can get back to normal economically.

But for the stock market to sustainably rally, evidence of a V-shaped recovery in the real economy will need to materialize. Will we get that? I’d say that this is very unknown. Of course, eventually, the economy will recover fully. So if you just want to invest with 5 year, 10 year or longer timeframes, buying now is indeed just fine. In fact, I’ve been kind of buying weekly for the last month for my long-term portfolio.

But my bet is on more of a U-shaped recovery than a V-shaped recovery for a few reasons.

Employment

The rise in joblessness has been horrific, but hasn’t exactly moved the market. That’s because everyone expected the millions in new jobless claims that we’ve seen in recent weeks. The question remains, however, what is the duration of this season of increased unemployed? Much of consensus has centered around a V-shaped rebound in the economy which would bring unemployment back down quickly. I’m not sure that’s what’s going to happen.

There are multiple forces working against the idea of “once the virus is gone, everyone gets hired back as the economy reopens.” First, consumer behavior might be modified dramatically for a prolonged period of time even after the virus risk has largely subsided. Will restaurants run at 40% capacity? Will people continue to just eat at home? Are individuals eager to purchase a new car?

Second, this quote from former Disney CEO Bob Iger this week struck me:

“I don’t think we’re ever going to see a return to business as usual in the sense that, I can’t speak for all companies, but Disney will take this opportunity to look for ways to run our businesses more efficiently when we come back. So what we’re doing is thinking, OK, as things start to return, one, what must we address in terms of making people feel safe, but secondly, what must we address in terms of running the company more efficiently, given what we believe business conditions will dictate.”

I translate this to mean… we’re not hiring everyone back when this crisis is over. And, Disney’s not alone here. This is actually par for the course for corporate America. When corporations have triggers to shed costs (especially labor costs), they don’t just run to add those costs back.

While there will be a bump in employment for service jobs related to retail and restaurant re-openings when the economy re-opens, I’d expect the climb back towards ultra-low unemployment to be a long-term process just like in the aftermath of the 2008 crash.

Earnings

We haven’t seen corporate earnings come in yet from this period of time. Earnings season will kick into gear in starting next week and go for several weeks into May. For now, much of the large cap companies in the S&P 500 have simply withdrawn guidance from previous quarters. Once earnings start coming in, we’ll start seeing real numbers about what companies are dealing with with respect to the economic shutdown.

A few companies I’m eager to see earnings from include:

  • Facebook: Facebook is likely to report increased usage, but the more interesting element of this report will be on the advertising revenue side. Facebook is a great barometer for business spending on marketing and advertising. The numbers are likely to be fairly bleak, but it’ll be interesting to hear Facebook’s comments on what they’re seeing. Facebook reports April 22, 2020.

  • Disney: Disney’s especially susceptible to this current situation as we outlined in the Netflix vs. Disney newsletter. I’m anxious to hear any detail that they provide regarding obviously park openings, but also what they’re seeing with respect to ESPN and cable subscribers. Disney reports May 12, 2020.

  • Amazon: Amazon is as well positioned as anyone for the current environment (and probably any environment probably), but while the company is ideal for a stay-at-home, have-everything-delivered world, it will be interesting to see what they’re seeing in terms of overall consumer spending. In all likelihood, they’re seeing a decrease in activity even though people are relying on delivery even more simply because of recessionary pressures on consumer spending. Amazon reports April 23, 2020.

  • Mastercard: It’s simple. Mastercard is an excellent window into consumer activity. Mastercard reports April 29, 2020.

While these companies will be instructive and useful for understanding the economic situation, bulls would argue that the bad news is already priced in. So, again, it will come down to future guidance. But wait, these companies aren’t likely to offer much guidance of anything, right? They’ll reiterate the fact that the coronavirus situation has made it impossible to reliably predict business in the near-term. Earnings will be down for the current quarter being reported. Everyone agrees. But what about the next quarter? So where does that leave us?

It’s hard to say, and I think the only answer here is that this still has some time to play out. The market is back up to levels of mid 2019, so it’s certainly pricing in a quick recovery despite the economic data worsening. The Fed is pushing in the other direction with historic measures to counteract the economic gravity. Because the outcomes of these forces are tough to predict and the timing of such outcomes are even tougher to predict, I think there are two things to hold on to:

  1. Patience. This situation is going to take some time to unfold.

  2. System. You need a system or a structure for how you plan to invest your money. As I mentioned above, I’ve been trying to push cash into the market at least weekly regardless of what’s going on. Such a system removes the emotion of the situation and usually ends up working out better than if you’re simply reacting to daily moves.

Side note: In addition to some of the upcoming earnings releases, the 2020 first quarter GDP report will come out on April 29, 2020.